Ad agencies fight for their future in the market

Shares in advertising agencies have slumped, while the ones of their important clients — the fast-moving consumer goods companies — have put on a much better showing. But the FT's Miles Johnson says trading them for their newly cost-disciplined clients might not work.

Transcript

With frequent drinking on the job and prodigious expense accounts, hard-nosed activist investors would have been none too impressed with Sterling Cooper, the fictional advertising agency in the TV series Mad Men. This week, the ad industry's best known real life character, WPP's Sir Martin Sorrell, was equally as unenthusiastic about cost-obsessed activists now pressuring some of his sector's biggest clients to tighten their belts.

The knock-on effect on his own share price has being clear. Shares and advertising agencies have slumped, with WPP down by 27% year to date, and Publicis having shed 15% of its value. But the share prices of their important clients, the fast moving consumer goods companies who are being targeted by activists demanding they boost their profit margins, have put in a much better showing.

Shares in Nestle, which launched a multibillion dollar share buyback in response to demands from the hedge fund manager Dan Loeb, are up 14.5% year to date. Unilever, which managed to defend itself from the attentions of notorious cost cutters 3G Capital, has gained almost 30%. Admittedly, Procter and Gamble, which has fended off an attempt by the veteran corporate raider Nelson Peltz to join its board, has failed to keep up, rising just 3.3% since the start of the year.

So in light of all of this, would it be a reasonable trade to sell short the Mad Men while simultaneously buying shares in their newly cost-discipline clients? There are reasons to believe that this may not work. Organic growth across the advertising sector as a whole has shrunk from being roughly in line with nominal global GDP growth in 2015 to being significantly below it this year, according to JP Morgan research. This suggests that the problems being suffered by the sector will not simply disappear once the activists find a new sector to target.

The ad men's consumer goods clients are also suffering from slowing growth and new entrants into their markets. So for those hunting for clues about what the stock market thinks is the future of advertising, they would be better instead to look at the share prices of two very different companies sucking up a lot of the ad spend, Alphabet and Facebook.